Investors are gauging whether the US Federal Reserve has reached the peak of its aggressiveness in hiking rates, with some saying they're ready to up risky positions again.
The Fed delivered its second straight 75 basis point rate increase on Wednesday, but Chairman Jerome Powell suggested the central bank could slow the pace of its rate increases in coming months if there is evidence that tighter monetary policy is taming the worst US inflation in four decades.
Plenty of investors believe inflation will prove tenacious and force the Fed to maintain a hawkish posture well into next year.
Others, however, are hoping that Wednesday's comments may imply the end of market-bruising monetary tightening is finally in sight, amid evidence parts of the economy are slowing after the Fed raised rates by a total of 225 basis points.
"The Fed comments incrementally validate that we are a little bit comfortable with risk," said Pete Duffy, chief investment officer at Penn Capital.
Fed funds futures, which reflect investor expectations of central bank policy rates, priced in a more dovish outlook shortly after Powell's comments. Chances that the Fed would deliver a 50-basis point hike in September – rather than a third 75 basis point increase - shot to 65%, from just under 51% on Tuesday.
Stocks extended their rally, with huge gains in tech and growth shares powering the Nasdaq to a 4.1% gain on Wednesday, its biggest daily percentage gain since April 2020. The benchmark S&P 500 is up nearly 10% from its mid-June low, after falling as much as 23.6% in the first half of the year.
Colin Graham, head of multi-asset strategies at asset manager Robeco, which oversees $228 billion in assets, said Wednesday's meeting reinforced his bullish outlook and bolstered his confidence that policymakers will get inflation under control.
It was a sentiment echoed by Blackrock's Rick Rieder, who in a statement said "it certainly seems like slowing down the pace of policy tightening would be possible given what we heard today". He expects a 50 basis point increase at the Fed's September meeting and "possibly one or two more 25 bps rate hikes" thereafter.
"I think the Fed has sort of caught up," said Van Hesser, Chief Strategist at KBRA. "They've convinced the markets that they understand the gravity of the situation, and have acted accordingly."
Of course, many investors are wary of calling a peak in Fed hawkishness, after a year in which inflation has repeatedly surprised markets and forced policymakers to ramp up their monetary tightening.
"We read Chair Powell's press conference as more hawkish than the market's interpretation," Citi's analysts wrote, adding they see core inflation pushing the Fed to hike more aggressively than markets anticipate with a 75 basis point hike in September.
Doug Fincher, portfolio manager at Ionic Capital Management, believes inflation is far from subsiding and that the economy may enter a period of stagflation - a toxic combination of high inflation and slowing growth – if the Fed deviates from its hawkish path.
"The concern is that inflation is still going to be with us... and if inflation is endemic, you need to raise rates," said Fincher, who is looking to add Treasury Inflation Protected Securities, or TIPS, to his portfolio.
The Fed's latest hike has brought its benchmark overnight interest rate to a 2.25%-2.50% range, which Fed officials have indicated as a level that has a neutral economic impact.
With the Fed offering little specific guidance on what to expect next, economic data will continue being a key catalyst for market moves during the eight weeks until the Fed meets again, investors said.
Duffy of Penn Capital believes that is likely a healthy development.
"The markets are relieved because if we get some soft economic data, the Fed will probably relax their hikes a little bit," he said.